Substantive analytical procedures.
A thorough understanding of analytical procedures is becoming more and more important to the effective and efficient performance of an audit. In this article, Ray Whittington, CPA, director of audit research at the American Institute of CPAs, New York, focuses on the use of analytical procedures in substantive testing, particularly when they're combined with tests of details for a particular assertion. Statement on Auditing Standards no. 56, Analytical Procedures, effective for audits of financial statements for periods beginning on or after January 1, 1989, makes analytical procedures a required part of the planning and overall review phases of an audit. It also says analytical procedures may be the most effective or efficient substantive procedures for obtaining evidence about certain financial statement assertions.
SAS no. 56 says an auditor can rely on substantive procedures to achieve an audit objective through tests of details, analytical procedures or a combination of both. The auditor's decision about the procedures to use depends on what is expected to be more effective and efficient. This is a two-step process. The auditor
1. Determines the overall level of assurance required from the substantive procedures, based on assessments of inherent and control risks.
2. Determines the appropriate mix of substantive tests (analytical procedures and tests of details) based on the nature of the assertion and the tradeoffs between the levels of assurance the tests provide and the time involved in performing them.
Substantive procedures. When performing substantive analytical procedures, the auditor develops an expectation about a current financial statement amount using other data--such as comparable prior years' amounts, industry statistics or budgeted amounts. The auditor then compares the expectation to the current amount and investigates any significant differences that resulted.
The most important consideration in determining the extent of the assurance obtained from an analytical procedure is the precision of the expectation. The more precise the current estimate, the more evidence is obtained from the analytical procedure.
In evaluating the precision of the estimate, SAS no. 56 says the auditor should consider the completeness of the data used to develop the expectation and the level of detail. Broad-level (for example, year-to-year numbers) expectations aren't generally as precise as expectations developed using more detailed (for example, monthly) data. Other factors affect precision, such as the reasonableness and predictability of the relationship between the current amount and the data used to make the prediction and the reliability or accuracy of the data. Therefore, the extent of the analytical procedures that can be performed largely depends on the data that are available to develop the expectations--a factor largely outside the control of the auditor.
Tests of details. Since analytical procedures often are the most efficient form of substantive tests, the auditor typically determines the extent of assurance that may be obtained from them about an assertion and then determines how much, if any, assurance must be obtained from tests of details. When tests of details are necessary, audit sampling may be involved. In these circumstances, exhibit 1 at right illustrates the tradeoff between reliance on analytical procedures and the extent of tests of details. It uses the formula for nonstatistical samples for tests of details in exhibit 2 at right from the American Institute of CPAs audit and accounting guide Audit Sampling. Exhibit 1 indicates the sample size goes from 60 to 46 to 30 as the extent of assurance from analytical procedures goes from none to moderate to substantial.
A combination. Analytical procedures also may be combined with tests of details when sampling isn't used. Many financial statement accounts--especially those made up of relatively few items--may be more efficiently audited by focusing on the high dollar (key) items instead of applying audit sampling. In these cases, tests of details may be applied to the key items with analytical procedures used to provide evidence about the remaining balance of the account.
INVESTIGATING SIGNIFICANT DIFFERENCES
When using analytical procedures as a substantive test, the auditor must decide what amount of difference between the current financial statement amount and the expectation can be accepted without investigation. This decision will depend on the auditor's judgment about materiality of the difference, but the degree of assurance desired from the procedure also is important. The more assurance that's desired from the procedure, the smaller the acceptable difference.
When substantive analytical procedures are used, the auditor is relying on them and reducing other substantive procedures. Therefore, any significant fluctuations must be investigated thoroughly. If management has an explanation for the difference, the auditor should corroborate it with other evidence. If management can't explain the difference, the auditor should perform sufficient procedures to determine that the difference is not the result of a material misstatement of the financial statement amount. [Exhibit 1 and 2 Omitted]
Mssrs. Whittington and Sauter are employees of the American Institute of CPAs and their views, as expressed in these articles, do not necessarily reflect the views of the AICPA. Official positions are determined through certain specific committee procedures, due process and deliberation.
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|Publication:||Journal of Accountancy|
|Date:||Mar 1, 1990|
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